The euro has remained underpinned by an increasingly hawkish ECB backdrop, even as EURUSD trades in a relatively narrow range ahead of the Federal Reserve decision. The ECB has already delivered its first rate hike since 2023, lifting the deposit rate to 2.25%, while policymakers, including President Lagarde, have signaled that further tightening remains possible as they seek to prevent elevated energy costs from feeding into broader inflation pressures. Markets continue to price in additional ECB hikes this year, supported by core inflation holding around 2.5% and improving sentiment indicators such as Germany’s ZEW expectations survey. At the same time, attention has shifted toward the Fed, where an expected hold has left investors focused on the policy outlook and whether US officials acknowledge that easing energy prices following progress toward a US-Iran agreement could lessen inflation risks going forward. This dynamic has modestly improved the Euro’s relative rate appeal, although lingering geopolitical uncertainty in the Middle East and any renewed demand for the safe-haven US Dollar continue to act as headwinds. In the near term, the euro’s direction will hinge on whether the ECB reinforces expectations for further policy tightening while the Fed maintains a cautious stance, potentially widening the policy divergence in the single currency’s favor.

Sterling has been supported by an improving global risk backdrop following renewed optimism surrounding a US-Iran peace agreement, which has weighed on safe-haven demand for the US Dollar and helped lift risk-sensitive currencies. At the same time, traders are bracing for a pivotal stretch of UK event risk, with May CPI data and the Bank of England policy decision set to shape expectations for the policy path ahead. Markets have increasingly scaled back expectations for aggressive BoE easing, particularly after elevated energy prices threatened to reignite inflation pressures, even as softer UK growth data has highlighted the difficult balancing act facing policymakers. On the external front, attention is firmly on the Federal Reserve, where rates are widely expected to remain unchanged, with investors instead focused on updated economic projections and guidance on the timing of future policy moves. As a result, the Pound has remained relatively resilient, trading in tight ranges as investors await clarity from both central banks while broader sentiment continues to be influenced by developments in global geopolitics and their implications for inflation and growth.

The Yen remains primarily driven by the evolving policy divergence between the Bank of Japan and the Federal Reserve. Although the BoJ delivered a widely anticipated 25 basis point rate hike to 1.00%—its highest policy rate since 1995—the move has failed to generate sustained support for the Yen as Japanese interest rates remain well below those in the United States. Market participants have also interpreted Deputy Governor Uchida’s cautious post-meeting communication as signaling a gradual approach to any further policy normalization, limiting expectations for additional tightening this year. Concerns that higher energy prices linked to Middle East developments could weigh on Japan’s growth outlook, alongside expectations for more accommodative fiscal measures aimed at easing the burden of elevated living costs, have further undermined the currency. At the same time, optimism surrounding a potential US-Iran peace agreement has reduced safe-haven demand for the Yen, while the US Dollar itself has softened ahead of the Federal Reserve policy decision. Nevertheless, with USDJPY continuing to trade just below the closely watched 160.50 area, markets remain alert to the risk of official intervention should Yen weakness accelerate further.

The Australian Dollar remains underpinned by a combination of resilient domestic fundamentals, a still-cautious Reserve Bank of Australia, and an improvement in global risk sentiment following signs of a temporary easing in Middle East tensions. The RBA’s decision to keep rates unchanged at 4.35% this week was accompanied by a distinctly hawkish message, with Governor Bullock reiterating that inflation remains too high and that further tightening cannot be ruled out if price pressures prove persistent. While Australia’s economy has shown signs of moderation, with softer GDP growth and some cooling in the labor market, inflation remains sticky enough to keep the prospect of restrictive policy firmly in place. Externally, optimism surrounding a US-Iran memorandum aimed at reopening the Strait of Hormuz has supported risk-sensitive currencies such as the Aussie by weighing on safe-haven demand for the US Dollar. Meanwhile, China, Australia’s largest trading partner, continues to provide stability rather than a meaningful growth impulse, with policymakers maintaining an accommodative stance and signalling readiness to preserve liquidity and financial stability. That said, markets remain cautious ahead of the Federal Reserve decision, where any shift in the Fed’s policy outlook could ultimately determine whether AUDUSD can build on its recent recovery above 0.7050 or remains confined within its recent range.